Articles - Nudges need to be in the right direction

I think the award of the Nobel Prize for Economics to Richard Thaler was welcomed by many in the pensions industry as recognition of the work he has done, alongside Professor Benartzi, on behavioural finance and the art of the nudge. Thaler’s ideas introduced the real world into economics and recognised that human beings are not the rational individuals often portrayed in traditional economic theory.

 By Dale Critchley, Policy Manager, Aviva

 Many of Thaler’s ideas immediately resonate with us as individuals. Many of us have stood in front a dizzying array of wine at different price points, paralyzed by choice, before deciding on the one that is at eye-line or on offer. 

 We can also recognise the feeling of instant gratification we get when we have made a large purchase. Thaler knew that people will put off something they know they really should be doing, in favour of something that seems more immediately desirable. Take the example of salary bonuses. Many people will take the cash to spend on a holiday, home improvements or a treat, despite being able to put it into their workplace pension and not get taxed.

 The biggest impact of Thaler’s work in the pensions world has of course been the introduction of automatic enrolment. By tapping into good intentions and utilising inertia and hyperbolic discounting to it’s advantage, automatic enrolment has taken the fundamentals of “Save More Tomorrow” and has managed to persuade nearly 9 million people to start saving for later life.

 The next stage of the “Save More Tomorrow” process will kick in with effect from April, when the commitment to pay an increased amount becomes a reality. The move to April (increases in minimum contributions were originally scheduled for October 2017) is a further nod to Thaler as it aligns contribution increases with a traditional time for pay rises, with the expectation that more people will stay opted in as a result.

 There is still a fear that people will opt out in larger numbers once contributions rise, something Aviva have done some research on recently. Interviews with over 1200 individuals revealed that 8% initially opted out, which is in line with the levels generally reported.

 Only 3.5% of the sample had stopped saving after the opt-out period ended, exploding the myth that a large proportion of employees are stopping after they initially join a scheme.

 When it comes to future plans employees are hugely in favour of workplace saving 74.9% said it should be compulsory (83.9% of over 55s) and this is reflected in their intentions. Only 4% of those interviewed told us they would opt out when contributions rise with 50% telling us they would definitely stay in. On the face of it there are a lot of undecided people, but Thaler would tell us that even within that population of 4% who seem determined to opt out there will be a reasonable number who decide that doing nothing is easier, and will stay in.

 It is encouraging that in our survey only 1% said they distrusted pensions. With nearly three quarters of people thinking compulsion is good idea our expectation is that if people are left to make their own decisions any uptick in opt outs will be minimal. There is however the danger that uninformed speculation about high opt out rates could deliver just that - by playing to our natural herd mentality we will nudge people in the wrong direction. If we tell everyone that people like them are going to opt out, we might find they opt out too. If we base predictions on surveys like Aviva’s we might get a different outcome.

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